New Direct Tax Code & Its Impact on Residential Properties
The Direct Tax Code (DTC) is a major evolutionary step in direct tax history of the country , which is all set to change the entire financial landscape of India. As it spells major change, it will require fairly in-depth study before all its implications can be understood and assimilated. On the face of it, DTC may have added cheer to the lives of Indian tax payers due to some of its moves, but it looks like a dampener for Indian realty industry.
Moreover, it is likely to undergo many changes and corrections before it is finally enacted. Hence commenting on the DTC is a minefield. With these qualifications let us see analyze some aspects that will apparently impact the property market:
Firstly there is a significant change in the way Income from House Property is calculated under the DTC most of which are adverse from the point of view of residential property investments.
1) Tax on every property, The Current Tax provisions provide for paying tax in respect of every property (except one self occupied property) whether let out or not, based on Contractual rental and where that is not available then based on Reasonable Rental (a phrase coined by me). There is also a provision for a vacancy allowance in case of property that has previously been let out at any time. Under the DTC Bill the tax is payable on all properties (except one non let out property) on the basis of higher of Contractual Rental or Presumptive Rental. The provision for vacancy allowance has also been deleted.
The real killer here is Presumptive Rent which is assumed at 6% of the rateable value fixed by the local authorities. In most cases now the local authorities have moved to a market value based rateable value. It is a very rare residential property that gets anywhere close to 6% of the market value (normally they get around 4 % of the market value) as rent nowadays. Possibly the presumptive rate has been kept at a middle value of 6% considering that commercial properties can be rented out at around 8% of market value.
Of course this simplicity works against residential property ownership. Since the income is higher of contractual rents or presumptive rents the end result will be taking completely non-existent income as incommode. Thus whether or not a tenant is available for the premises, it forces the owner to pay tax on income that he may never get as in case when he is unable to find tenants for his property.
Without the protection of the vacancy allowance that is available under the current tax laws this single change will drive investors out of the market. Some may argue that not having investors (as distinct from buyers who buy for their own use) may not necessarily be a bad thing but I am not one of them.
2) The wordings for not applying this income clause to one non let-out property (equivalent to self-occupied property under the current provisions) are a little unclear and if left unchanged can jeopardize even this small relief.
3) For let out properties the standard deduction has been reduced from 30% to 20% of gross rent.
4) Deduction is available on all properties for local taxes and service tax to the extent paid.
5) There is no deduction for interest for the non let out property (broadly self-occupied under current provisions) where the income is taken as nil unlike the current provision where this is available up to Rs. 1,50,000/-
6) There is no provision for deduction on the principal payment of the, loan, taken to buy a home.
7) As far as commercial property is concerned it is now clear that renting out of property in whatever guise (whether as a business center etc.) will now be taxable as income from House Property and not as Business Income or Income from Other sources. The impact is that no deduction for any other expenses will be allowed except local taxes, service tax and interest on loan (and off course the standard deduction of 20%). The good thing is that calculations for jointly owned properties has been made absolutely clear as also treatment of interest payable for, loans, taken to re-pay the original, home loan, (transfer of loan from one lender to another).
All in all the real killer here is the presumptive rent. Clearly this is a stiff annual Wealth Tax on owning a residential house property in the guise of creating an objective benchmark for the rental potential of a residential house property. With the changes in Capital gains tax as well as the current rental laws, which discriminate against the landlords, and the stiff service tax on rentals, owning residential property except one for self-occupation will be fairly taxpaying thing.
Clearly the government is not in favour of you owning more than one property and if you do, you will have to be prepared to pay tax through your nose. These provisions, if enacted, are likely to have a very large impact on the residential property market. Firstly residential properties purchased for investment purposes or ownership of second properties is likely to go down significantly. Secondly tax driven decision making to purchase own residence also is likely to significantly reduce.
Still these are l early days so let us see what actually gets enacted as law.
Till then you move on with your decisions of home buying!